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Climbing Interest Rates Fuel Stablecoin War as Binance Makes Move on Rivals

The battle for the stablecoin market is intensifying as interest rates continue to rise and the biggest players compete for market share.

Binance, the world’s largest crypto exchange, said it would automatically convert users’ deposits from several rival stablecoins into its own stablecoin, Binance USD, starting this month. Analysts say Binance’s decision could escalate rivalries between the largest stablecoin players, such as Tether and Circle, and generate additional revenue for Binance as its stablecoin’s market cap grows.

So-called stablecoins are cryptocurrencies that are pegged to government-issued currencies on a 1-to-1 ratio. Stablecoin issuers run a lucrative business by investing user deposits in cash and cash equivalent assets, such as short-term US Treasury bonds. The more deposits a stablecoin issuer has to invest, the more interest income it earns.

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Treasury yields have risen sharply this year as the Federal Reserve raised interest rates to curb decades-long inflation. Yields on the one-month and three-month Treasury bills were 2.570% and 3.149% respectively on Friday.

“The game of stablecoins is essentially to maximize your stablecoin market cap so you can increase your earnings,” said Katie Talati, research director at crypto asset manager Arca.

The popularity of stablecoins has soared over the past two years, accounting for about $143 billion in market value, compared to $21 billion at the end of September 2020, according to data from the Block.

Circle Internet Financial Ltd., which issues the second-largest stablecoin, USD Coin, held $40.1 billion in short-term treasuries as of September 15, according to its website. The Boston-based company earned $28.5 million in interest income on USD Coin in 2021 and $100.4 million for the first six months of this year, according to a recent filing.

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Circle estimated it could earn a total of $438 million in interest income this year and a whopping $2.2 billion in 2023, it said in a financial outlook presentation in February. USD Coin has a market cap of $50 billion.

Tether Holdings Ltd., the company behind the largest stablecoin with a market value of $68 billion, held $29 billion in US Treasury bills at the end of June, according to the latest statement. Tether also charges a 0.1% redemption fee for a minimum withdrawal of $100,000.

“Stablecoin issuers cannot efficiently pass on the interest they earn because that would be a security,” said Matthew Sigel, head of digital asset research at VanEck. “So as a result, the earning power is quite high.”

The market cap of Binance’s stablecoin, Binance USD, reached $20 billion about a week ago, just three years after its launch. The automatic conversion could boost market cap by another $908 million as the exchange holds 2%, or $898 million, of USD Coin’s offering and 1% or $10 million of Pax Dollar’s offering, Bank of America analysts Alkesh Shah and Andrew Moss wrote in a recent research paper.

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In the long run, Binance’s decision could potentially help USD Coin increase its market share against tether, which is excluded from Binance’s newly revealed change. On Binance, many tokens and derivative contracts are still tethered and collateralised. Mr Shah wrote that Binance users are more likely to withdraw their Binance USD as USD coin than tether “given the inconvenient inability to convert BUSD to USDT without executing a trade.”

Tether said Binance’s move could be “aimed at taking the number two spot from USD Coin and replacing it with Binance’s own BUSD” stablecoin.

Jeremy Allaire, chief executive of Circle, said via Twitter that he thinks USD Coin’s move would likely benefit as the use of Binance USD off-exchange is still limited. Indeed, 86%, or $17 billion, of Binance USD’s supply is held on Binance, indicating that the stablecoin is not regularly used in the crypto ecosystem and is of no use, said Mr Shah of BofA.

“With dollar books consolidated, it will now be easier and more attractive to move USDC to and from Binance for core markets trading,” said Mr. Allaire.

Binance said the move would allow for “greater trading liquidity and a better user experience”. Patrick Hillmann, Chief Communications Officer of Binance, said that Binance’s automatic conversion movement offers a more frictionless trading experience and that the shared revenue it earns from Binance USD is minimal.

Dion Rabouin of WSJ explains why many investors still bet on crypto even with the very real threat of losing all their money. Illustration: Rami Abukalam

Binance is not the first exchange to consolidate some of the stablecoins on its platform.

On crypto exchange FTX, when customers deposit USD Coin, TrueUSD, Pax Dollar and Binance USD, the stablecoins are immediately treated as US dollars in their account. In July, Coinbase unified its order books for US dollars and USD Coin, meaning the exchange treats customer deposits from USD Coin as US dollars.

But neither exchange dominates the crypto trading market like Binance, which accounted for 36% of the total crypto trading market share on September 9, according to CryptoCompare.

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Coinbase, which launched USD Coin with Circle in 2018, has a revenue-sharing agreement with Circle on the interest income earned from reserves backing USD Coin. JPMorgan analyst Ken Worthington said in a recent note that Coinbase could potentially earn $700 million in incremental revenue in 2023 and 2024 from its relationship with Circle.

Despite Binance carrying the Binance brand, Binance USD is issued by the company Paxos. The stablecoin is regulated by the New York Department of Financial Services, which requires stablecoins to be fully backed and easily redeemable. The reserves backing Binance USD are held by a bankruptcy trust, which “provides better consumer protection,” said Rich Teo, co-founder and CEO of Paxos Asia.

A Paxos spokeswoman declined to comment on the details of the revenue-sharing agreement between Binance and Paxos.

Write to Vicky Ge Huang at [email protected] and Caitlin Ostroff at [email protected]

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